The Difference Between the Deficit and the Debt

How the Deficit Worsens the Debt Which Worsens the Deficit...

deficit vs debt
••• Each year's deficit adds to the debt. Photo: Image Source/Getty Images

budget deficit is when spending is greater than the revenue received for that year. That's known as deficit spending. The national debt is the accumulation of each year's deficit.

When revenue exceeds spending it creates a budget surplus. A surplus subtracts from the debt.

How the U.S. Deficit and Debt Are Different

The current U.S. budget deficit is projected to be $440 billion for FY 2018. That's much lower than the record high of $1.4 trillion reached in FY 2009

The U.S. debt exceeded $21 trillion on March 15, 2018. That's more than triple the debt in 2000, which was $6 trillion. 

How the Deficit Affects the Debt

The Treasury must sell Treasury bonds to raise the money to cover the deficit. This is known as the public debt, since these bonds are sold to the public.

In addition to the public debt, there is the money that the government loans to itself each year. This money is in the form of Government Account Securities. It comes primarily from the Social Security Trust Fund.  

As Baby Boomers retire, they will draw down more Social Security funds than are replaced with payroll taxes. These benefits will then be paid out of the general fund. This means that either other programs must be cut, taxes must be raised or benefits must be lowered. Unfortunately, legislators have not agreed on an effective plan to meet Social Security obligations.

How the National Debt Affects the Deficit

The debt affects the deficit in three ways. First, the debt gives a better indication of the true deficit each year. You can more accurately gauge the deficit by comparing each year's debt to last year's debt. That's because the deficit, as reported in each year's federal budget, does not include all of the amount owed to the Social Security Trust Fund. That amount is called off-budget. (Source: Michael R. Pakko, "Deficit, Debts and Trust Funds," Economic Synopses, St. Louis Federal Reserve, August 2006.)

Second, the interest on the debt is added to the deficit each year. About 5 percent of the budget goes toward debt interest payments. Interest on the debt hit a record in FY 2011, reaching $454 billion. That beat its prior record of $451 billion in FY 2008, despite lower interest rates. By the FY 2013 budget, the interest payment dropped to $248 billion, as interest rates fell to a 200-year low.

As the economy improved, interest rates rose starting in May 2013. As a result, interest on the debt is projected to quadruple to $850 billion by FY 2021. That will make it the fourth largest budget item. See Budget Spending.

Third, the debt decreases tax revenue in the long run. That further increases the deficit. As the debt continues to grow, creditors become concerned about how the U.S. government will repay it. Over time, these creditors expect higher interest payments to provide a greater return for their increased perceived risk. Higher interest costs dampen economic growth. 

How They Affect the Economy

Initially, deficit spending and the resultant debt boosts economic growth. This is especially true in a recession. That's because deficit spending pumps liquidity into the economy. Whether the money goes to jet fighters, bridges or education, it ramps up production and creates jobs.

Not every dollar creates the same number of jobs. For example, military spending creates 8,555 jobs for every billion dollars spent. That's less than half the jobs created by that same billion spent on construction. For that reason, it's not the best unemployment solution.

In the long run, the resultant debt is very damaging to the economy. First, is because of higher interest rates. Second, the U.S. government may be tempted to let the value of the dollar fall. That means the debt repayment will be in cheaper dollars. As this happens, foreign governments and investors will be less willing to buy Treasury bonds. That forces interest rates even higher.

The greatest danger from the debt is to Social Security. As this debt comes due when Baby Boomers retire, funds will need to found to pay them. Not only could taxes be raised, which would slow the economy, but the loan from the Social Security Trust Fund will stop. More and more of the government's spending will need to be devoted to pay for this mandatory cost. This would provide less stimulation, and could further slow the economy.